What does building a custom home cost? Here's what expenses to expect

Settling down is expensive. 

The average 30-year fixed mortgage rate hit a whopping 7.23% in August, an eye-watering number for anyone looking to buy a house. And many prospective homebuyers have decided that if they have to pay through the nose to grab a piece of the American dream, they might as well get exactly what they want by building their own home — permits for future construction hit a 12-month high in June.

But is the build really worth it? Here's everything you need to consider when choosing between buying an existing house and building one from scratch. 

What costs are required when building a custom house?

How do you finance a custom home build?

How do the upfront costs compare?

Is a new build right for you?

Bottom line

Building a house isn't cheap by any means.

Today's Homeowner reported in April that, excluding the cost of land and development, which can be upwards of an additional $100,000 depending on the size and complexity of your build, building a 2,100 square foot spec home costs a national average of $332,397. To name a few state-specific projections, it also reported the average to be $287,670 in Mississippi, $309,334 in Texas, $363,314 in California, $371,875 in New York and $431,364 in Hawaii. 

The actual cost of the following considerations can vary broadly by location and build details, so CNBC Select recommends consulting with a financial planner and a homebuilding expert in your area before proceeding with a project. That said, here are the basic questions you'll need to answer for almost any new build that can help you decide if it's the right choice for you.

1. Where are you going to build? 

First things first, you have to own land to build on, says Christos Viores, a real estate attorney and managing partner at Ligris, a firm based in Massachusetts. He built a home from the ground up in 2021. 

Land prices vary wildly in the United States. Land is obviously much cheaper in less sparsely populated areas, like North Dakota or Alaska, than in highly populated urban areas, like New York or California. The average price per acre of single-family, residential land in 2019 was $152,000 though this estimate ranged from $11,000 to nearly $1.45 million between counties at the 1st and 99th percentile, respectively, according to researchers from the Rutgers Business School, the Federal Housing Finance Agency and the American Enterprise Institute.

Keep in mind, though, that an acre is roughly the size of a football field. In fact, you can fit approximately 18 homes (at 2,400 square feet each) in one acre of land. You probably don't need to purchase an entire acre of land and can comfortably build a home with a humble yard on much less land.

If you're lucky, that land won't have any problems and you can proceed with the build. But more likely than not, you'll have to install some sort of drain system, which can cost you thousands of dollars, though it depends on where you live and what you need. Viores built his home at the bottom of a hill, and the extensive drain system cost around $65,000.

Similarly, your plot of land might also have pre-standing property, like a dilapidated house, and you may have to pay to tear such a structure down, whether to build in its place or to get the property up to code. 

2. What are you going to build? 

Next, you'll need to hire an architect to turn your vision into a workable blueprint, down to the height of the ceilings and the width of the walls. And architects aren't cheap. Viores says the architect's fee was one of the most surprising costs associated with constructing his dream home.

Even though you can buy pre-designed home plans online for around $1,000, a custom job can cost you either tens of thousands of dollars or a set percentage, usually 5% or 15%, of the total cost of construction. 

3. Are you allowed to build? 

Before breaking ground, you'll need to contact your municipal government and acquire several permits. To build a custom home, you'll need a construction permit which will likely cost between $1,000 and $5,000. Additionally, you might need an electrical permit, a plumbing permit and an HVAC permit, each of which could range in the hundreds of dollars. 

Permit costs and requirements vary widely between locales. If you live in cities with a historical commission, you'll also need a permit to demolish standing property of a certain age. 

4. Who is going to build it? 

After you've got your plans laid out and approval from the government, you need a builder, also known as a contractor, to source the materials and actually construct the home. Viores says that builders typically charge commission in one of two ways: either a flat fee somewhere around $150,000 or a fee of 15% to 25% of the total cost of construction. So, if you're building a million-dollar house, be prepared to tack on an extra $150,000 to $200,000 for your builder. 

The builder or contractor will itemize the project and likely provide you with an estimate. Usually, the builder is your primary contact for the project and will coordinate an electrician, a plumber and other subsidiaries that you might need to construct a livable space. You'll typically need a builder and timeline laid out before you can begin to apply for a construction loan to finance the build.

Viores recommends asking around your community for reliable contractor recommendations. He added that one of the most common red flags that you're dealing with a shady contractor is the bait-and-switch —the contractor gives you a low estimate, begins the project and then adds "forgotten" costs down the line.

If you're concerned about spiraling surprise costs in a new build, you should ask your contractor about a lump sum contract, also known as a fixed-price contract or a stipulated sum contract. This binding document contains your explicit specifications for the build along with a fixed price from the contractor for that build. Should the project's final costs be lower than the contractor's estimate, then their profit margin increases. If the estimate proves to be too low, the contractor covers the unforeseen expenses, leaving your wallet untouched. 

5. What hiccups are you going to encounter? 

You shouldn't worry about running into surprise expenses during your build. Accept it as a certainty instead. 

John McCafferty, a Virginia-based director of financial planning at Edelman Financial Engines, recommends saving 3 to 12 months of net expenses in liquid savings and eliminating high-interest consumer debt before starting a new build or even mortgaging an existing home, as it will eat into the cash flow you need to solve problems around the house. 

"What happens is with younger people, and especially younger families, they skip those first two steps," he says. "They get into a home, and then the reality of homeownership is staring them in the face and they're like, 'Oh, we still have all these obligations.' Take care of those things first, then get into a home."

You'll likely stumble across unplanned costs regardless of what type of home you move into – existing or custom. If you're able to put away the money McCafferty recommends for such occasions, keep it in a high-yield savings account where it can quickly grow while remaining easily accessible. The LendingClub High-Yield Savings account currently earns a 5.00% APY and the UFB Secure Savings account earns 5.25% APY. Both are excellent choices.

6. What are you going to put inside the build? 

You need more than four walls and a roof for a house to become a home. Appliances, countertops, furniture and more require a lot of spending — Viores ballparked that new appliances alone can run you at least $20,000 in total. The process also requires a lot of decisions, and if you don't want to make those decisions, you can hire an interior designer to make the decisions for you, though designers typically charge around $100 per hour or $1,000 per room. 

7. What are you going to put outside the build? 

Do you want a paved driveway? Do you want a deck or a patio?  Do you want extensive landscaping? These additional costs can cost you in the tens of thousands, regardless of where you live. 

8. How much will your taxes go up? 

After more than a year of planning and waiting, you finally move into your dream house. But you've still got a surefire cost headed your way: property taxes. Viores paid around $1 million for his house in the Boston area, and it was tax-appraised at $3.5 million. Because new builds are… well… newer, they are valued higher than a comparable existing home would be.

Construction loans are short-term, high-interest loans that cover the costs of building a new home – including land purchases, contractor labor, materials and permit fees. With a construction loan, the home must be completely built and have a certificate of occupancy, usually within one year, though some loans extend to 18 months. 

When you apply for a construction loan, you must include financial documentation and a proposed plan for the project. McCafferty said that most of his clients use their non-retirement savings and cash reserves to pay for the loan's upfront expenses. like closing costs and lender fees.

Once approved, you and your builder can begin using incremental amounts of the loan funds for the project. During the build, you'll usually only be required to pay interest on the loan until the project is complete. Once the house is ready for move-in, you must pay back the loan or convert it into a mortgage. 

At this point, most of McCafferty's clients use the sale of their previous home to cover the bulk of the construction loan and convert the rest into a mortgage. 

McCafferty says most construction loans have relatively similar rates, but the best ones give you creative flexibility. These loans give you the freedom to do things like choose your design, your builders and your location. While certain lenders have close relationships with certain builders and certain permit offices, these streamlined affiliations might make it easier for a lender to take advantage of you. You should compare options and read the fine print before taking out any loan. 

Viores says it's smart to consider regional banks for your construction loan, since they likely often work with builders in your locale and have established relationships with them. But if you feel more comfortable working with a larger lender to build a brand-new home or to do a major renovation on an existing home, CNBC Select recommends a few construction loan lenders that are available nationwide. 

TD Bank has online services, but also over 1,100 physical branches throughout the U.S., making it an ideal lender for those who prefer an in-person process. This lender offers a construction-to-permanent loan option, which converts your construction loan into a regular mortgage upon completion of the build, meaning you only have to submit one application and pay one set of closing costs. 

Citizens™  also offers a convenient construction-to-permanent loan option, but this loan allows borrowers to take up to 18 months to complete construction on their homes. This is 6 months longer than the 12 months construction loan lenders typically allow borrowers to finish construction. This gives you valuable extra time to recover from any delays in your build.

A custom home will generally cost you more than a comparable existing home. But how do the upfront costs compare? What comes out of your wallet before you start making regular payments? 

When you buy an existing home, traditionally, you make a down payment on a mortgage and pay closing costs and lender fees. The minimum down payment can be as low as 3% of the loan. This home could cost you a varying amount depending on whether the market is favoring sellers or buyers, and depending on the condition of the home, could also cost you out-of-pocket for renovations to make the space livable. For example, in a seller's market, you might end up paying considerably over the asking price for an existing home.

But when you build a new home, the minimum down payment on your construction loan is likely be higher, at least 5% to 10% of the total construction cost, and you will still have to pay closing costs and lender fees when your loan is converted to a traditional mortgage, which usually happens once the build is complete.

Keep in mind that you'll have to pay interest on the loan before the build is finished. So, let's say you lock in a construction loan for $400,000 with a 10% annual interest rate. Even though you won't be making principal payments, you'll have paid $40,000 in interest by the time your build finishes, if your build lasts 12 months.

McCafferty asks his clients considering a custom build "Why is this important to you? Will it in fact be a good financial decision for you?" He says that custom homes most often make sense for retirees or financially secure adults preparing for retirement. 

"If you're a first-time buyer, I would probably skip the new build," he says. "You might be biting off more than you can chew."

Some companies offer builds where you can personalize the fixtures, flooring and other parts of the home's interior for first-time homebuyers who can't afford a completely customizable project, says Rob McGibney, EVP and chief operating officer at KB Home, an S&P 400 homebuilding company.

Custom builds come with other considerable benefits: getting exactly what you want out of your living space, avoiding maintenance costs for older appliances, and skipping any possible renovation costs that some used homes require. 

But new builds have many considerable disadvantages as well: you often have to wait a year or two to move in after submitting your build permit application, you have to continue paying for an existing home while your new home is being built and the build can put stress on you and your spouse.

Building a new home is an easily understated accomplishment, and it requires a lot of time and energy. You'll have to make creative decisions almost every day for about a year. However, with the right attitude and fluid communication, it can be a fun experience.

Viores says his favorite part of the process was driving up to the build site every weekend, with his wife, bagels and coffee, watching wooden bones grow into the home of their dreams. 

It's almost always cheaper to buy an existing house. When high mortgage rates make your stomach drop, don't think that building your own home will save you money. Building a house from the ground up is worth the extra cost only if you highly value customization.

At CNBC Select, we work with experts who have specialized knowledge and authority based on relevant training and/or experience. For this story, we interviewed

• Christos Viores, a real estate attorney and managing partner at Ligris.
• John McCafferty, director of financial planning at Edelman Financial Engines.
• Rob McGibney, EVP and chief operating officer at KB Home.

At CNBC Select, our mission is to provide our readers with high-quality service journalism and comprehensive consumer advice so they can make informed decisions with their money. Every mortgage and housing article is based on rigorous reporting by our team of expert writers and editors with extensive knowledge of mortgage products. While CNBC Select earns a commission from affiliate partners on many offers and links, we create all our content without input from our commercial team or any outside third parties, and we pride ourselves on our journalistic standards and ethics. See our methodology for more information on how we choose the best mortgage providers. 

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